Mervon Hotels has Rs 2,000 crore of floating debt at benchmark plus 250 basis points, EBITDA of Rs 480 crore, and the benchmark at 6.5%. What does a 200 basis point rise do to interest cover, and what does swapping half into fixed at 7.4% change?

A 200 basis point rise takes unhedged cover from 2.67x to 2.18x, through the 2.25x covenant; with half the debt swapped at 7.4%, cover holds at 2.30x. The swap is not free: it costs Rs 9 crore a year at today's rates and cuts cover now to 2.54x. It pays off if the benchmark averages above 7.4%. I would fix about half, because a covenant breach in a rate spike is the risk the equity cannot bear.

Completely. A family whose home loan resets every year feels every rate rise in the next instalment. With all Rs 2,000 crore floating, each 100 basis points on the benchmark adds Rs 20 crore of interest, so a 200 basis point rise lifts interest from Rs 180 crore to Rs 220 crore and cuts cover from 2.67x to 2.18x. That is a covenant breach caused by the central bank rather than by any hotel losing guests.

An interest rate swapA contract to exchange a fixed interest payment for a floating one on a notional amount, used to turn floating-rate debt into fixed or the reverse. on Rs 1,000 crore turns half the debt into a fixed 9.9%, 7.4% plus the margin. After the shock, interest is Rs 99 crore on the fixed half plus Rs 110 crore on the floating half, Rs 209 crore, and cover is 2.30x, back above 2.25x. The shock hits only the half that still floats.

Today the swap costs money: Mervon pays 7.4% fixed and receives 6.5% floating, so it is Rs 9 crore a year worse off while rates stay put. The swap pays for itself only if the benchmark averages above 7.4% over its life, so fixing is a choice to pay a known cost now to cap a larger unknown one. Hotels make that choice easier: room rates are cyclical, and a downturn often arrives with tight money, so EBITDA and rates can move against Mervon together.

Fix enough that a plausible rate shock alone does not breach the covenant, and not so much that Mervon loses all benefit if rates fall. Half does that here: it survives a 200 basis point shock at 2.30x, while leaving Rs 1,000 crore to benefit from any cuts. The table also shows the limit of any hedge: a rate shock together with a 15% fall in EBITDA breaches either way, because a swap cannot protect earnings. The fixed-floating mix is really a decision about how much rate risk the equity can bear.